What's the deal with the Help To Buy ISA?

It sounds like a first-time buyer's dream come true – the Help to Buy ISA promises free cash if you save for a deposit to buy a home. And it's tax-free.

The Help-to-Buy ISA, launched at the beginning of December, is designed to assist all first-time buyers in the UK. It also works in conjunction with existing initiatives to help you get on the property ladder. 'You can use the Help to Buy ISA together with other Help to Buy schemes, including the equity loan and mortgage guarantee elements,' explains Charlotte Nelson, finance expert at Money Facts.

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HOW IT WORKS

When you open the ISA you can save £1,000 as a starting sum plus an extra £200 that month, meaning a total of £1,200 can be put away in the first month to kick you off. You don't have to start with £1,000. The minimum monthly contribution could be from as little as £1, but check with the provider.

After the first month, you can save a maximum of £200 per month and the government will top up your contributions by 25 per cent, so bringing in another £50 a month. If you miss a contribution one month, it's not a problem, but you can't make up for it the next (ie pay in a maximum of £400 to cover both months) and still attract the government top-up for two months. The idea is to support regular saving.

In total, the government will contribute a maximum of £3,000 to your ISA but you would need to save £12,000 in order to qualify for this.

Of course, you will be earning interest on your savings, so depending on how much you put in every month, and your product's interest rate, you will reach the £12,000 sum earlier. However, interest is paid only on your savings, not the government's contribution.

To qualify for any government contribution, you must save at least £1,600, when a bonus of £400 will kick in.

When you are ready to move, the account is closed and your solicitor or conveyancer applies for the money on your behalf tobuy the property – you never actually see the cash. They can charge a maximum fee of £60 (£50 plus VAT) to process this.

THE BENEFITS

Interest rates on Help to Buy ISAs are very competitive – currently the Halifax is offering 4 per cent.

Two people buying together can each open a Help to Buy ISA individually, therefore with maximum contributions of £200 a month, you could benefit from £6,000 of government top-up in total.

The property you buy can be old or new, as long as it is in the UK and not going to be rented out.

Although the amount you can save each year in a Help to Buy ISA is a lot less than in a cash ISA (currently £15,240 per annum) the 25 per cent boost is much higher than you'd earn in interest alone.

You don't have to take out a mortgage with the same provider your ISA is with, so you're free to shop around.

Anyone over the age of 16 can open a Help to Buy ISA, so it's a good way for young people to start saving early for their first home.

Your Help to Buy ISA can hold more than £12,000, but cash above this threshold will not qualify for a bonus.

You can open a Help to Buy ISA between now and December 2019, but there is no time limit on saving, you don't have to use the cash to buy a property until 2030.

You can withdraw your savings at any time to use as you like – to spend on a holiday, or a car, for instance – but you would only receive your own contribution, plus interest, not the government bonus.

Be aware: Unlike with existing ISAs, you can't open a new Help to Buy ISA every tax year – you can only ever hold one. However, you can start a new cash or cash/stocks & shares ISA in the next tax year after taking out a Help to Buy.

THE DRAWBACKS

The money you save can only be used to buy a property, not for help with legal fees or moving costs. As the time to buy approaches, it is advisable to put away enough cash to cover these expenses in an easy-access savings account – see Mark Harris's advice, below.

Help to Buy ISAs could slow down the housing market, because prospective buyers will be encouraged to take a long time to amass their deposit in order to benefit from the maximum contribution from the government. Even if you take advantage of the initial £1,000 lump sum allowance, it would take four years and seven months of paying £200 a month before you could claim the full £3,000 deposit.

Some critics have argued that it will only benefit those who can already afford to save for a deposit, rather than helping those who are struggling. The net result could be that house prices are actually driven up by those who have these deposits boosted by the government's contribution.

There are no guarantees over what will happen to the interest rates for Help to Buy ISAs in future, although you will be able to switch providers to obtain the best deal. Don't let your investment 'drift' – attractive introductory rates could fall away in subsequent years.

The capped limits for buying a house are £250,000 across the UK and £450,000 in London. This could be limiting for first-time buyers in the capital, where average house prices are now more than £500,000.

It can only be used by first-time buyers, not those wishing to 'second-step'.

If you have inherited a property or have even been left a share in a property in a will, this is classed as 'owned' so you aren't eligible for the ISA.

However, if you are a first-timer buying with someone who has previously owned a home, you qualify even though your partner doesn't.

WHERE TO GET A HELP TO BUY ISA

There are currently 14 brands offering the product:• Aldermore• Barclays• Bank of Scotland• Clydesdale Bank• Halifax• HSBC• Lloyds• Nationwide• NatWest• Newcastle Building Society• Santander• Ulster Bank• Virgin Money• Yorkshire Bank'To get the best rates you may have to set up a standing order to commit to a certain amount of contribution each month,' says Charlotte Nelson at Money Facts.

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WHAT IF I'VE ALREADY GOT AN ISA?

Savvy savers may be already be salting away cash every month into an ISA. But you can't open more than one ISA in your name every tax year, so the £200 a month limit prevents you from taking advantage of your full annual Cash Isa deposit limit. However, as Charlotte Nelson explains, you can, 'transfer up to £1,200 of your active cash ISA balance into your Help to Buy ISA. Anything above this amount should be moved into either a stocks & shares ISA (you're allowed a stocks & shares ISA and a Help to Buy ISA in the same tax year, subject to current tax guidelines and allowances) or a non-ISA savings account.'For further information on transferring between ISAs visit Money Facts.

WHAT'S THE ALTERNATIVE?

Although the Help to Buy ISA offers obvious benefits, first-time buyers should not regard it as a magic fix. 'If you are saving for a deposit, it is important to look at all the options available to you,' says Mark Harris, chief executive of mortgage broker SPF Private Clients. Here are his recommendations:

An instant-access savings account is perhaps the easiest place to save with no restrictions on withdrawing your cash, but rates of interest are poor. Bear in mind that from the new tax year in 2016, the first £1,000 of interest in a savings account is tax-free for basic rate taxpayers (first £500 for higher rate taxpayers).

Nationwide offers Save to Buy – a savings account, access to higher loan-to-value lending and a cashback reward of up to £1,000 on completion of a Save to Buy mortgage. Savers must pay in at least £50 per month, but you are allowed to miss three months during the 12 months before you apply for the mortgage.

If parents or relatives want to help, consider a family offset from a lender such as Newcastle Building Society. They open a savings account, which is offset against the mortgage when calculating how much interest you pay. It has the same effect of a bigger deposit, but the advantage is that your family still 'own' their savings.